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Mastering Retirement Planning: A Guide to Your Financial Future

Exploring Your Retirement Options: Understanding Different Plans and Their Benefits

Good morning, girls and boys! 🧑‍🦰👧 Today, we’re talking retirement! Now, don’t roll your eyes just yet—this isn’t your grandma’s retirement chat. In this newsletter, we’ll dig into traditional retirement planning, and in a future one, I’ll introduce you to the exciting world of mini retirements (because who needs to work for 40 years straight, right?). Let’s jump in before your coffee gets cold! ☕

Why Retirement Planning Matters

Retirement planning isn’t just about saving—it’s about making sure you can actually enjoy the freedom of living life without worrying about money.

Did You Know?

  • Social Security gives you about $1,800/month, but the average person spends $4,000/month. So... where’s that extra cash coming from? 👀

  • In 2022, the average household spent a whopping $6,080/month on essentials. (Source: BLS)

Now, here's the big question: Are you relying on Social Security or a pension to cover all your expenses?

Time to plan ahead—your future self will thank you! 😎

The Importance of Starting Early: Time Is Your Best Friend

Example:

  • Start at 25: Save $200/month at 7% annual return = $372,318 by 65.

  • Start at 35: Save the same = $200,652 by 65.

The Difference? Waiting just 10 years could cost you $171,666! Start today and let compound interest work its magic.

How Much Should You Save by What Age?

Follow this simple benchmark: Save X times your annual salary by age Y.

Age

Savings Target

Example for $100K Salary

30

1x annual salary

$100,000

40

3x annual salary

$300,000

50

6x annual salary

$600,000

60

10x annual salary

$1,000,000

Stay consistent, and you’ll be on track for a secure retirement!

Retirement Tip: The $1,000 Rule

Here’s a quick way to estimate your retirement savings:

To generate $1,000/month in retirement, you’ll need to save $240,000 (assuming a 5% annual withdrawal rate and 5% annual return).

Monthly Income Needed

Savings Goal

$1,000

$240,000

$2,000

$480,000

$3,000

$720,000

Pro Tip: Plan for your needs and avoid early withdrawals to keep your savings intact.

Your Retirement Plan Options:

Let's get educated today about retirement plans provided by the IRS. When you're early in your career and working for an employer, you only need to know about your company's provided retirement options, such as 401(k), IRA, or Roth. But as you move forward and eventually start your own business, you'll need to learn about plans like Solo 401(k), SEP IRA, and others. Today, I’m going to cover all types of retirement plans for you:

Plan

Details (2024)

Traditional IRA
A savings account for retirement that lets you contribute pre-tax money, lowering your taxes now. You pay taxes when you withdraw the money in retirement.

Contribution Limit: $7,000 ($8,000 if 50+), or taxable compensation.

Eligibility: Anyone with taxable compensation.

Contributions: Employee only.

Key Features: 
- Pre-tax contributions
- Withdrawals in retirement are taxable as income
- Tax deduction
- Perfect if you want to lower your taxes today

Roth IRA
A retirement account where you contribute money after paying taxes, so your savings grow tax-free. When you withdraw the money in retirement, you don’t pay any taxes on it. It’s great if you expect to be in a higher tax bracket later in life.

Contribution Limit: $7,000 ($8,000 if 50+), or taxable compensation.

Eligibility: Anyone with taxable compensation and income below certain limits.

Contributions: Employee only.

Key Features: 
- After-tax contributions
- Tax-free growth
- Ideal if you expect to be in a higher tax bracket later.

Payroll Deduction IRA
A retirement savings account that allows you to automatically save for retirement by having contributions deducted directly from your paycheck. You can choose either a Traditional or Roth IRA, depending on whether you want tax benefits now or later.

Contribution Limit: $7,000 ($8,000 if 50+), or taxable compensation.

Eligibility: Any employee can participate.

Contributions: Employee only.

Key Features: 
- Contributions via payroll deduction
- Employee establishes an IRA (Traditional or Roth) with a financial institution

SEP IRA
A SEP IRA (Simplified Employee Pension IRA) is a retirement account mainly for self-employed people or small business owners. The employer makes contributions to the account, and it allows for larger yearly contributions than a regular IRA. It’s a simple way for business owners to save for their own and their employees' retirement.

Contribution Limit: 25% of compensation or $69,000.

Eligibility: Self-employed and small business owners.

Contributions: Employer only.

Key Features: 
- Employer-managed
- Flexible contributions
- Perfect for small businesses with variable cash flow.

SARSEP
Salary Reduction Simplified Employee Pension is a retirement plan for employees of small businesses that existed before 1997. It combines employee contributions with employer contributions. Employees can contribute part of their salary, and the employer also makes contributions to the account. SARSEPs are no longer available for new businesses, but if your employer has one, you can still use it.

Contribution Limit: 25% of compensation or $69,000; elective deferrals up to $23,000.

Eligibility: Employees of eligible employers (pre-1997).

Contributions: Employee and employer.

Key Features: 
- Combines employee deferrals with employer contributions.
- Legacy plan, no new ones post-1997.

SIMPLE IRA
A SIMPLE IRA plan provides small employers with a simplified method to contribute toward their employees' and their own retirement savings. Employees may choose to make salary reduction contributions and the employer is required to make either matching or nonelective contributions.

Contribution Limit: $16,000 ($19,500 if 50+).

Eligibility: Small businesses.

Contributions: Employer and employee.

Key Features: 
- Employer matches up to 3%, or contributes 2% nonelective.
- Contributions are made to an IRA set up for each employee (a SIMPLE IRA).

401(k)
A 401(k) plan is a retirement savings plan where employees can contribute a portion of their salary before taxes. Employers may also contribute. The contributions grow tax-free until withdrawal in retirement. There are different types of 401(k) plans, like traditional and Roth, each with different tax rules.

Which is better?

Traditional 401(k) is usually better if you expect a lower tax rate in retirement. Roth 401(k) is ideal if you think your tax rate will be higher in retirement, as it provides tax-free withdrawals.

Contribution Limit: $23,000 ($30,500 if 50+).

Eligibility: Employees of eligible employers.

Contributions: Employer and employee.

Key Features: 
- Tax-deferred contributions, employer matching
-Traditional 401(k): You contribute pre-tax dollars, reducing your taxable income now. However, you’ll pay taxes on withdrawals in retirement.
- Roth 401(k): You contribute after-tax dollars, meaning you pay taxes upfront. Qualified withdrawals in retirement are tax-free.

SIMPLE 401(k)
A SIMPLE 401(k) is a retirement plan for small businesses with up to 100 employees. The employer contributions are fully vested, meaning employees fully own them right away. To qualify, employees must earn at least $5,000. Employees can't participate in other employer retirement plans.

Contribution Limit: $16,000 ($19,500 if 50+).

Eligibility: Small businesses with <100 employees.

Contributions: Employer and employee.

Key Features: 
- Employer matches up to 3%, or contributes 2% nonelective
- Easier to manage than traditional 401(k).

Solo 401K

A Solo 401(k) is designed for self-employed individuals or small business owners with no employees (other than a spouse).

Contribution Limit: The business owner wears two hats i.e. employee and employer. $23,000 as employee and 25% of compensation as employer.
Eligibility: Self-employed individuals or small business owners with no full-time employees.
Contributions: Employee and employer contributions.
Key Features:
- Higher contribution limits compared to traditional IRAs.
- Flexibility to contribute both as an employer and employee.

- Potential to borrow from the plan (up to $50,000 or 50% of balance).

403(b)
A 403(b) plan is a retirement plan for employees of public schools, certain non-profits, and tax-exempt organizations. Employees can contribute part of their salary, which grows tax-deferred, meaning no taxes until retirement

Contribution Limit: $23,000 elective deferrals; $69,000 total.

Eligibility: Public schools, non-profits.

Contributions: Employer and employee.

Key Features: 
- Similar to 401(k), but for non-profits.

Profit Sharing
A profit-sharing plan is a retirement plan where an employer contributes a portion of the company’s profits to employees’ retirement accounts. These contributions are typically discretionary, meaning the employer decides how much to contribute each year, based on the company’s profitability.

Contribution Limit: Lesser of 100% of compensation or $69,000.

Eligibility: Employers of any size.

Contributions: Employer only.

Key Features:
- Employer decides contribution amounts each year.
- Flexible plan where employers share profits with employees.

Defined Benefit Plan
A Defined Benefit Plan is a retirement plan where the employer promises a specific monthly benefit to employees upon retirement, usually based on salary and years of service. The employer funds the plan and is responsible for ensuring there’s enough money to pay the promised benefits. Employees get predictable retirement income, but the employer bears the investment risk and costs.

Contribution Limit: Based on retirement benefit.

Eligibility: Employees.

Contributions: Primarily employer, with optional employee contributions.

Key Features: 
- Provides fixed retirement income.
- The benefit amount is typically based on a formula
- A traditional pension plan with guaranteed payouts.

Money Purchase Plan
A retirement plan where the employer contributes a fixed % of an employee's salary every year. The employer must make these contributions, even if the company doesn't make a profit. The amount employees receive depends on how much the employer contributes and how well the investments grow.

Contribution Limit: 25% of compensation or $69,000.

Eligibility: Employers of any size.

Contributions: Employer and employee.

Key Features: 
- Requires fixed employer contributions.
- A structured plan with consistent employer contributions.
- Employee can make additional voluntary contributions.

ESOP
Employee Stock Ownership Plan is a retirement plan where employees own shares of the company they work for. The company provides stock to employees as part of their compensation. Employees don’t contribute to the plan directly, but when they retire or leave, they can sell their shares and get the money. It's a way for employees to benefit from the company's success.

Contribution Limit: Varies.

Eligibility: Employers of any size.

Contributions: Employer only.

Key Features: 
- Employees gain company stock ownership.
- Employees own shares in the company they work for.

457(b) Plan
A retirement savings plan for employees of state or local governments or certain tax-exempt organizations. Employees can defer part of their salary into the plan, which grows tax-deferred until retirement.

You can withdraw from a 457(b) penalty-free before age 59½ if you're no longer with the plan sponsor, but income tax applies; government 457(b)s avoid the 10% penalty unless funds are rolled over from another plan or IRA.

Contribution Limit: $23,000.

Eligibility: Government employees.

Contributions: Employer and employee.

Key Features: 
- Tax-deferred savings, similar to a 401(k)
- Government 457(b) plans can allow Roth contributions and rollovers for tax-free withdrawals later.
- Both contributions and earnings are not taxed until retirement.

For more details, check out the IRS Retirement Plans page.

Note:
You can take money from your Traditional IRA, SEP IRA, or SIMPLE IRA at any time, but it will be taxed. If you're under 59½, you'll usually pay a 10% penalty.


Terminology 

  • Nonelective Contribution: A payment made by an employer to an employee's retirement plan regardless of whether the employee contributes their own money.

  • Deferred Compensation: Part of an employee's earnings set aside to be paid at a later date, usually during retirement. Taxes are typically postponed until the funds are received.

Enough with the retirement, let’s talk about this week news

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This Week's Tool: Runway ML

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Runway ML is an AI-powered platform for video and content creation. From text-to-video generation to smart video editing, it’s perfect for creators of all levels.

This Week's Exercise: Maximize Your 401(k)

Take a moment to check your employer's retirement plan. Are you contributing enough? Always aim to max out your 401(k), especially at a young age. Every extra dollar today can grow exponentially tomorrow!

So, let’s make it happen! Got questions? Drop them my way—I promise I won’t charge you for advice (yet). 😜